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Red Flags to Consider if You Have Received a Private Placement Memorandum

San Diego Corporate Law recommend that you seek out the advice and counsel of a good corporate attorney if you have received a private placement memorandum and are considering investing your money (note: San Diego Corporate Law also drafts private placement memorandums for its business clients, but does not review private placement memorandums written by others on behalf of issuers). A good corporate lawyer will be able to read and review the private placement memorandum and provide some advice and counsel on various red flags that might be raised. Red flags are raised not only by what might be contained in the private placement memorandum, but by what might be missing. The problem is not merely that the investment might not be well-drafted and well-supported. It is possible that the unregistered offering could be a total scam. With the recent rise of coin offerings, scams have become more common. Here are a few red flags to watch for.

You first heard about the investment through the internet or via social media

While some private placement memorandums offered through Rule 506 allow for general solicitation and advertisement, use of the internet and social media should still raise caution flags. The idea behind Regulation D is to allow for smaller capital raises without the huge expense of formally registering the offering. Part of the tradeoff, however, is that private placements are intended to reach sophisticated investors — so-called “accredited investors.” In general, “accredited investors” do not find their investments on the internet or on social media. So, be a bit more cautious, insist on all the required documentation, read everything, and seek advice from a good corporate attorney.

The investment is available without income or asset verification

Along the same lines, if you are told you can invest without needing to verify that you are an “accredited investor,” do more research. Private placement memorandums under Rule 506(b) can be offered to up to 35 nonaccredited investors, but a good promoter will make it clear that this investment is offered under that exception and will note the numerical limit. The offering becomes a problem if there are too many nonaccredited investors.

Details on the managers or promoters cannot be verified or are flimsy

In general, a solid private placement memorandum sets out the backgrounds and track records of the managers or the promoters of the investment. If those details are missing or are thin and flimsy, do more research. If the investment is legitimate, it should be easy enough to locate information about the managers/promoters. If you cannot confirm who they are and confirm their backgrounds, the investment might be a scam. If the promoter claims to be in the financial industry in some capacity — a securities broker, for example — the Financial Industry Regulatory Authority (“FINRA”) keeps a database that can be checked.

Unsupported claims of high return on investment with little risk

The biggest red flag is the promise of high returns on your investment with no risk (or little risk). This is the classic method of fleecing unsuspecting investors out of their money. No investment is without risk. You should read the private placement memorandum very with respect to the returns and risks. If it does not contain information about returns and risks — or is vague and unclear — then the private placement memorandum is likely incomplete, badly drafted, or intended to deceive.

Sloppiness

A private placement memorandum that contains an abundance of typos and mistakes, that is missing sections and documentation, and that is badly written is another giant red flag. A good private placement memorandum will be drafted by professionals — including lawyers and accountants — who pay attention to details. If the document is not well-drafted and professional, that suggests that — maybe — your money is not going to be well spent.

Contact San Diego Corporate Law Today

For more information, contact attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard can provide advice and assistance whether you are seeking to raise capital for your venture through a private placement memorandum. Mr. Leonard has been named “Best of the Bar” by the San Diego Business Journal for four years running and can be reached at (858) 483-9200 or via email.

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Michael J. Leonard, Esq., is an award winning attorney whose practice focuses on corporate, securities, contract, and intellectual property law for small and medium businesses. In his practice, Mr. Leonard routinely assists his clients with the formation of business entities, financing through the sale of debt and equity securities, mergers and acquisitions, contract drafting and review including commercial leases, and establishment and licensing of trademarks, copyrights, and trade secrets.